Thursday, January 10, 2013

The Moral Imperative of a Debt Ceiling

Representative Jerrold Nadler, Democrat of New York, signed on to the trillion-dollar [platinum] coin plan, telling Capital New York: “It sounds silly but it’s absolutely legal. And it would normally not be proper to consider such a thing, except when you’re faced with blackmail to destroy the country’s economy, you have to consider things.”

But he might find resistance from Representative Greg Walden, Republican of Oregon, who said he would introduce legislation to close the loophole and end the debate once and for all.

“My wife and I have owned and operated a small business since 1986. When it came time to pay the bills, we couldn’t just mint a coin to create more money out of thin air,” Mr. Walden said.

Dear Bank of America:

As a lender to my small business, you should be the first to know of a decision I’ve decided to take. It wasn’t easy, and I’ve given it a lot of thought, but now I’m convinced it’s the right course of action. I won’t be making my next monthly payment.

It is true that I have already ordered shipments of equipment and materials using the funds I’ve borrowed from you. It is also true that I have adopted a pricing policy that’s designed to increase market share at the expense of current cash flow. The result of these choices is that my financial obligations will exceed my revenues for an extended period of time.

I have a line of credit that can cover this shortfall; we discussed it at length in our meeting last month. I appreciate your willingness to finance it at a negative real interest rate. But I now believe that it is immoral for me to increase my debt, which could be a burden on my children and grandchildren. As a result, I have imposed a debt limit on myself—a limit which I refuse to raise.

I’m sure you can understand the sound principles on which this choice is based: taking on more debt is evil. That’s why I have chosen instead to default on your loan, as well as withhold wages I’ve promised to pay to my workers. Please support me in this virtuous undertaking.

The difference between fiscal versus monetary policy? Yes, I would appreciate a clarification as to how these entities are entirely different and separate from one another.

FISCAL: government spending versus government revenue.

If there is an excess of government spending over government revenue then government gets into debt. How is this debt funded? Answer: borrowing, printing money, sale of assets.

MONETARY: interest rates, money printing.

So monetary and fiscal policy interact with one another. If there is an excess of government borrowing to fund a large and continuing fiscal deficit then the pressure is on to keep interest rates very low (or even negative) to meet debt payment requirements. (Otherwise the latter could blow out and take almost all of government revenues....unless quantitative easing - money printing - kicks in). What are the longer term consequences of very low or negative interest rates? What happens when money printing is continuously used to pay down government debt?

Increasing key resource shortages in the economy would also have an impact on the fiscal deficit and monetary policy. Higher priced oil and other commodities would tend to increase the government deficit (eg through its military and infrastructure spending) through inflation. Whilst, at the same time, government revenues would be reduced as employment and business opportunities contract due to cost blowouts and household austerity.

I'm all for America printing its way out of debt as long as all other nations can do the same. As long as food, shelter, water and other basic necessities of life remain affordable for all.

Or is North America a fiscal, monetary and debt island. Does it stand alone with the behaviour of its wealthy plutocrats, consumers and government not having any affect on the rest of the world?

"Why are interest rates being kept at a low level?http://www.federalreserve.gov/faqs/money_12849.htm

"The financial crisis that began in 2007... it led to a deep and prolonged global economic downturn. The Federal Reserve took extraordinary actions ....the Federal Reserve has purchased large quantities of longer-term Treasury securities and longer-term securities issued or guaranteed by government-sponsored agencies such as Fannie Mae or Freddie Mac. ...."

In other words the yield on the US dollar is being made artificially low. This stimulates a currency trade in US dollars - borrow cheaply in the US, invest where yields are higher (eg Australia). Since October 2008, the Australian dollar has appreciated over 35% against the US dollar.

How would America fare in a world of capital controls? How would the US 'fiscal cliff' be addressed then?

John asked "Is that what Roubini calls "Carry trade"?And is that why the rest of the world is investing in US Treasuries?"

the answer to the first question is 'yes'.

with respect to the second question, printing non-existent money and injecting it into the money supply causes the price of goods and services, expressed in a unit of the currency to rise. It also causes the currency’s value to fall.

In a 'carry trade' 'investors' borrow in low-yielding currencies and lend in high-yielding currencies'. Borrowed money is converted into other currencies and this can weaken the value in the currency in which the money is borrowed.

The yen carry trade could have been (at least partially) responsible for the surge in sub-prime lending in the US. A bubble that collapsed and then resulted in governments bailing out the huge too-big-to-fail financial institutions that were somehow involved in these dodgy lending practices.

The very large size of the bailout led to rising fiscal deficits in nations that transferred this enormous private debt to their taxpayers, without public approval btw.

The large fiscal deficits, in turn, led to pressure to keep interest rates down by the central banks funding these much higher government deficits.

They cycle perpetuates. Inflation is being kept down by the deflationary effects of high unemployment, reduced household spending and lower household incomes, a rise in the informal economy, banks not lending to small businesses, further deregulation, more intense forms of exploitation etc.

It's all very complex. I'm still trying to work this dynamic out. It keeps changing. any clarification by other readers would be appreciated.